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Going beyond the cashflow 'health check'

It is becoming widely accepted that cashflow modelling is an essential part of the financial planning process.

This is especially the case for firms who want to provide true lifetime planning. Those that ‘do’ cashflow modelling are now more common than those that don’t.

Yet there are still some fundamental questions around the purpose of cashflow modelling, and how to fully realise the benefits it offers.

It could be argued the number of planners who have mastered cashflow modelling and are using it live and interactively with clients is actually still limited.

At its most basic level, cashflow modelling provides clients with a ‘health check’, which allows them to see the impact of decisions on spending and retirement age on the financial plan.

Clearly, this is a useful starting point. It helps clients make more confident decisions and removes a layer of worry. But using cashflow modelling in this way only covers a small proportion of the benefits on offer.

In the not-too-distant future, clients will have access to simple models that will allow them to do this kind of analysis themselves as part of robo-advice services.

An increased adoption of these services, along with increased fee transparency, suggests more will need to be done to demonstrate the value of financial planning.

So as financial planning firms evolve their businesses, it makes sense that the way firms adopt cashflow modelling starts to change in line with this.

Used to its full potential, cashflow can help to drive profitability, support compliance and consistent advice, strengthen client relationships and boost clients' perception of value.

But to understand the real power of cashflow modelling, it needs to be used beyond just a health check. It must be an integral part of the advice process.

There are three key aspects to this: managing risk, demonstrating value, and as entry point for talking to clients about protection. Let's take each of these in turn.

Managing risk

There are three risk 'lenses' planners look through when helping a client assess the best course of action:

1) Capacity for loss – the ability to absorb falls in the value of investments

2) Need to take risk – how much risk and return is required to meet client objectives

3) Attitude to risk – how willing clients are to take risk.

Cashflow modelling clearly has a role to play here, particularly in assessing capacity for loss and need for risk.

It's also worth recognising that risk cannot be looked at in isolation, and assessing risk shouldn't be considered a one-off process.

Outside influence and client decision-making means risk should be part of every review meeting and decision, to avoid clients making decisions that inadvertently mean they can't absorb possible investment losses.

Using cashflow modelling as part of this allows risk to be part of a repeatable, ongoing process.

Demonstrating value

Once the initial risk assessment is complete, it's then a case of optimising the financial plan.

This is an opportunity to help the client meet or exceed their objectives with greater levels of confidence.

It also allows planners to stress test, showcase and demonstrate the value of their advice.

This could be through better structuring of income sources and investments, setting tax efficient withdrawal strategies, or executing inheritance tax strategies.

Yet many planners do not show the value this gives as a monetary amount. We believe this is a missed opportunity.

Due to savings and growth compounded over many years, a simple piece of advice could have a significant impact on the client’s life plan. Often this will dwarf the cost of advice.

By demonstrating the value repeatedly, the effect of fees arguably becomes a secondary thought to the client.

Key to this though goes back to our earlier point about risk, and making sure additional risk assessments are done as part of the process. This will ensure the advice is always appropriate.

The need for protection

As with many things, our health always seems much more valuable after we lose it.

Unfortunately, that is the problem for those promoting protection plans. People often don’t see the value in the cover until it’s too late.

Research by the Centre for Economic and Social Inclusion for the Association of British Insurers shows that over 60 per cent of working families would lose over a third of their income if the main earner had to stop work. Some 40 per cent would see their income drop more than half.

The main barriers in the way of clients putting cover in place are affordability and a lack of understanding. Uptake remains limited despite the obvious need.

As a planner you need to be able to demonstrate the need for cover - if clients can't see the value of protection and that protection is affordable for them, they will not proceed.

Cashflow modelling can illustrate the cost of taking out the policy and not claiming, which often has a negligible impact on the client’s overall plan and objectives.

What's more, cashflow modelling can illustrate to clients you are not over- or under-insuring them. Again, this is about demonstrating your value add.

Overall, the total benefits can be summarised as 'prevent', 'optimise' and 'protect':

Prevent: Assess risk as an embedded part of the financial planning process

Protect: Ensure clients have the right amount of protection in place, and can easily compare need against cost.

We passionately believe there is more to cashflow modelling than just seeing if a client runs out of money, or when they can retire. The real value of cashflow modelling will only come when it's used to its full potential.